Soaring Debt + Fed Monetization = Higher Interest Rates

For many years I used this chart to show that the relationship between federal debt outstanding and interest rates was exactly the opposite of what most people tend to think: the two have been for the most part (with the notable exception being the 1990s) inversely correlated for many decades.

That relationship may now be on the verge of changing: the big increase in federal debt that is slated for the coming years will likely correspond to rising interest rates. The reason? Debt is going to be increasing much faster than GDP for years to come, and the Fed is making huge purchases of Treasury debt, thus monetizing the debt as never before.

Rising interest rates are thus likely to be driven by a) an avalanche of Treasury supply and b) rising inflation. These are going to be the critical issues to focus on in coming years. I don't think they mean that the economy will collapse. Instead, I think it is a good reason to expect that economic growth will be subpar (averaging less than 3%) for many years.

Comments

[George Kesa...:]

My question is, what If people dont want to get a loan, what will interst rates do then?

May 12 10:17 AM

[BobP:]

If there are no loans or if there isn't any debt, there would be no need for Federal Reserve Notes, or money as we call it. No IOU's, no interest.

May 12 09:12 PM

[Evelyn Guzman:]

It makes sense, doesn't it that a lot of debt plus federal monetization will just lead to interest rates that are higher. There is nowhere else to go but in that direction for sooner than later we will have to face the music and pay up. But I like what you said about the economy not going under as a result, but we will just experience slower growth.

Evelyn Guzman
www.debtchallenges.com (If you want to visit, just click but if it doesn’t work, copy and paste it onto your browser.)

May 13 07:19 AM